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Portugal Rally Bypasses Investors as Trading Slumps: Euro Credit

Portugal Rally Bypasses Investors as Trading Slumps
Portugal is rated below investment grade by Moody’s Investors Service, Fitch Ratings and Standard & Poor’s. Photographer: Mario Proenca/Bloomberg

Portuguese debt returns that are 28 times better than German bunds are bypassing investors deterred by a lack of trading in the government securities and inflated gaps between the prices at which bonds can be bought and sold.

Just 184 million euros ($241 million) of Portuguese notes and bonds traded on the secondary market last month, according to figures compiled by the nation’s IGCP debt agency, a drop of 98 percent from 13.3 billion euros in August 2007. A daily average of just 3 million euros of securities changed hands in July, the lowest since at least 2000. By contrast, an average of about 59 billion euros of contracts on 10-year German bunds traded each day during August in the futures market.

“For us to invest in Portugal is maximum downside, limited upside,” said Stuart Frost, a fund manager at RWC Partners Ltd. in London, which oversees $4 billion. “Something happens on the weekend that causes a spike of 2 percent, and we’re out of business. We can’t get involved in that kind of market.”

Portuguese debt has this year returned 48 percent, including reinvested interest, the most of 26 markets tracked by indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies. Irish debt, the second-best performer, has handed investors 24 percent, while German bund gains are 1.7 percent in 2012.

The Iberian nation is rated below investment grade by Moody’s Investors Service, Fitch Ratings and Standard & Poor’s. Its economy shrunk for seven consecutive quarters as the government enacts austerity measures to comply with terms of a 78 billion-euro aid package after it followed Greece and Ireland in requesting a bailout.

‘High Volatility’

The maximum profit available in August from trading the Portuguese bond due in October 2023 was 163,400 euros per 1 million euros of securities. That’s calculated using the lowest bid price on Aug. 1 and the highest offer price on Aug. 22. The average turnover for the bonds was 1 million euros per day, according to IGCP.

“High volatility, low volumes, wide bid-to-offer spreads are a deterrent to investors,” said John Wraith, a fixed-income strategist at Bank of America Merrill Lynch in London. “Liquidity and depth is one of the key considerations for investors when they’re thinking about what to do. A market which lacks that is going to suffer as a result.”

Portugal’s 10-year yield slipped two basis points to 8.42 percent at 11:45 a.m. London time, down from a euro-era record of 18.29 percent reached on Jan. 31. Similar-maturity German bunds yield 1.65 percent.

Profit Struggle

The biggest barrier to trading Portuguese debt is the difference between the bid and offer prices, an indicator of market liquidity, according to Marc Ostwald, a fixed-income strategist at Monument Securities Ltd. in London.

“If your bid-to-offer premium is so huge, you are going to struggle to make money,” he said. “It is really only ever going to be something for the very, very speculative community or those who are playing an extraordinarily long game and can ride out huge swings in mark-to-market.”

The current gap between purchase and selling prices for Portuguese 2022 bonds equates to a yield difference of about 30 basis points, according to data compiled by Bloomberg. It was as wide as 140 basis points this year. That compares with a spread of 0.3 basis point for 10-year German bunds.

Portugal’s drop in trading volumes is repeated in Spain which saw an average of 40.9 billion euros a day of bonds traded in July, compared with 69.8 a year earlier, according to the nation’s Treasury.

Market Access

The rate on Portuguese two-year notes dropped to a more than 19-month low of 4.05 percent on Sept. 10 after European Central Bank President Mario Draghi said the central bank may consider purchasing the debt of euro-area countries currently under bailout programs when they resume borrowing on the international capital markets.

Investor reluctance to buy Portuguese debt may frustrate Prime Minister Pedro Passos Coelho’s aim to regain access to debt markets by September 2013. The nation hasn’t sold bonds since April 2011 and has been “sounding out” the market as it prepares to resume sales of medium-term notes, Joao Moreira Rato, chairman of the country’s debt agency, said in an interview in July.

“Portugal isn’t something we would play with here and now,” said Ariel Bezalel, who oversees Jupiter Fund Management’s $1.6 billion-dollar Jupiter Strategic Bond Fund in London. “What the ECB is doing right now is really papering over the cracks. You’ll start to see some of these sovereigns coming under pressure once again.”

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